DIVERSIFICATION AND PORTFOLIO MANAGEMENT

OF MUTUAL FUNDS

Also edited by Greg N. Gregoriou

ADVANCES IN RISK MANAGEMENT
ASSET ALLOCATION AND INTERNATIONAL INVESTMENTS
PERFORMANCE OF MUTUAL FUNDS

Diversification and
Portfolio
Management of
Mutual Funds

Edited by
GREG N. GREGORIOU

Selection and editorial matter Greg. N. Gregoriou 2007

Individual chapters contributors 2007
Softcover reprint of the hardcover 1st edition 2007 978-0-230-01915-7
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and Patents Act 1988.
First published 2007 by
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PALGRAVE MACMILLAN is the global academic imprint of the Palgrave
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A catalogue record for this book is available from the British Library.
Library of Congress Cataloging-in-Publication Data
Diversification and portfolio management of mutual funds / edited by
Greg N. Gregoriou.
p. cm.
Includes bibliographical references and index.
1. Mutual funds. 2. Portfolio management.
HG4530.D575 2006
332.6327dc22
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To my mother Evangelia and in loving memory of

my father Nicholas

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Contents

Acknowledgments

xii

Notes on the Contributors

xiii

Introduction

Diversification into Art Mutual Funds

Rachel Campbell and Joshua Pullan
1.1 Introduction
1.2 Art as an asset
1.3 Art mutual funds
1.4 Art price data qualifications
1.5 Conclusion

xxiii

1
1
2
5
8
15

Funds of Funds: Diversification, Selection or

Expense Arbitrage?
Clark L. Maxam, Seow Eng Ong and Craig Wisen
2.1 Introduction
2.2 FOF background and data
2.3 The data
2.4 Empirical results
2.5 Conclusion

18

Are Investors Home Biased? Evidence from Germany

57

Andreas Oehler, Marco Rummer, Thomas Walker and

Stefan Wendt
3.1 Introduction and related work
3.2 Data
3.3 Empirical analysis
3.4 Conclusion

57
62
65
73

18
21
28
32
47

vii

viii

CONTENTS

International Mutual Fund Efficiency and Monetary

Policy Sensitivity

78

Giampaolo Gabbi
4.1 Introduction
4.2 The efficiency model and estimates
4.3 Monetary policy sensitivity of international indices
4.4 International mutual funds efficiency and
monetary policy
4.5 Conclusion

89
92

78
79
84

Equity Portfolio Construction: A Comparative Analysis

94

Raffaele Zenti, Massimiliano Pallotta, Claudio Marsala

and Stefano Ricci
5.1 Introduction
5.2 Portfolio construction: the main steps
5.3 Back-testing methodology and datasets features
5.4 Main results
5.5 Conclusion

94
96
109
112
118

Improvements and Limitations of the Revised

Morningstar Fund Rating Methodology

121

Roman Krussl
6.1 Introduction
6.2 The new Morningstar fund-rating approach
6.3 Improvements and limitations
6.4 Conclusion

121
123
127
133

Mutual Fund Flows and Expected Stock Returns

in Germany: The Role of the Benchmark and of
Expectation Biases

138

Wolfgang Breuer and Olaf Stotz

7.1 Introduction
7.2 Portfolio selection and exogenous returns
7.3 Portfolio selection and endogenous returns
7.4 Numerical analysis
7.5 Implications and hypotheses
7.6 Empirical analysis
7.7 Conclusion

138
141
143
145
151
155
161

Herding Behavior: Evidence from Portuguese

Mutual Funds

167

Jlio Lobo and Ana Paula Serra

8.1 Introduction
8.2 Hypotheses and methodology

167
170

CONTENTS

8.3
8.4
8.5

10

Data
Results
Conclusion

12

174
177
186

The Best of Both Worlds Fund: Exchange Traded

Funds in Australia

198

Paul U. Ali
9.1 Introduction
9.2 ETF structure
9.3 The anti-delegation rule
9.4 Conclusion

198
199
202
204

The Relative Impact of Different Classification Schemes

206
on Mutual Fund Flows
Alexei P. Goriaev
10.1 Introduction
10.2 Data description
10.3 Methodology
10.4 Relationship between flows and performance relative
to the stated objective category
10.5 Relationship between flows and performance
relative to the stated objective, Morningstar style,
and asset class categories
10.6 Relationship between flows and ordinal as well as
cardinal measures of performance
10.7 Category-specific flow spillover effect from
a star fund to the other funds in the family
10.8 Conclusion

11

ix

206
210
213
216

219
224
226
228

Exploiting Industry Momentum with Sector Funds:

The Case of the European Market

232

Radu Burlacu, Patrice Fontaine and Sonia Jimenez-Garces

11.1 Introduction
11.2 Industry-sector mutual funds
11.3 Sample and descriptive statistics
11.4 Average returns of momentum portfolios
11.5 The performance of momentum portfolios
11.6 Additional investigations
11.7 Conclusion

232
235
236
240
245
248
252

US and Chinese Mutual Fund Regulation

256

Mercer Bullard, Guangxi Jia, Jin Meng and Ji Qi

12.1 Introduction
12.2 Background

256
257

CONTENTS

12.3
12.4
12.5
12.6
12.7
12.8
12.9
12.10
12.11

13

14

15

16

Fund offerings
Fund governance
Disclosure requirements
Fund fees
Distribution compensation
Pricing, sales and redemptions
Affiliated transactions
Money market funds
Conclusion

258
259
261
264
265
266
268
269
270

Some Insights on the Behavior of the Mutual Fund

Industry in Spain

272

Manuel Moreno and Gonzalo Rubio

13.1 Introduction
13.2 The mutual fund industry in Spain
13.3 Data
13.4 Models of performance evaluation
13.5 Empirical results
13.6 Conclusion

272
276
277
280
282
308

On the Supposed Foreign Superiority: The Italian

Tax Puzzle

312

Roberto Savona
14.1 Introduction
14.2 Economic framework
14.3 The tax puzzle
14.4 The database
14.5 Empirical results
14.6 Conclusion

312
313
314
315
317
324

Corporate Governance of Mutual Funds in Pakistan

334

Muhammad Akbar Saeed and Nadeem A. Syed

15.1 Introduction
15.2 Importance of corporate governance for mutual funds
15.3 History of mutual funds in Pakistan
15.4 Code of corporate governance in Pakistan and
international best practices
15.5 Conclusion

341
350

Determinants of Pension Funds Underwriting

and Implications for Portfolio Management:
Evidence from Italy

353

Carlo Fiorio and Marco Percoco

16.1 Introduction
16.2 Social security reforms in Italy

353
357

334
338
339

CONTENTS

16.3
16.4

17

Empirical evidence on pension funds underwriting

Some implications for portfolio management
of pension funds
16.5 Conclusion

366
370

Managerial Response to Mutual Fund Performance

in the Spanish Market: An Agency Approach

373

Begoa Torre-Olmo, Carlos LpezGutirrez and Sergio Sanfilippo Azofra

17.1 Introduction
17.2 Agency problems associated with information
asymmetries between managers and mutual
fund investors
17.3 Data and methodology
17.4 Results
17.5 Conclusion

18

Analysis of the Mutual Fund Demand in the

Spanish Market
Begoa Torre-Olmo, Carlos LpezGutirrez and Sergio Sanfilippo Azofra
18.1 Introduction
18.2 The role of mutual funds in the future of
financial activity
18.3 The influence of behavioral factors in investor
decisions to choose mutual funds
18.4 Empirical analysis
18.5 Conclusion

Index

xi

359

373

374
381
382
385

389

389
391
394
396
404
409

Acknowledgments

I would like to thank Stephen Rutt, Publishing Director, and Alexandra

Dawe, Assistant Editor at Palgrave Macmillan, for their suggestions, efficiency and helpful comments throughout the production process, as well as
Keith Povey (with Paul Dennison and Nick Fox) for copy-editing and editorial supervision of the highest order. In addition, I would like to thank the
numerous anonymous referees in the US and Europe during the review
and selection process of the articles proposed for this volume.

xii

Notes on the
Contributors

The Editor
Greg N. Gregoriou is Associate Professor of Finance and coordinator of
faculty research in the School of Business and Economics at the State
University of New York (Plattsburgh). He obtained his PhD (Finance) from
the University of Quebec at Montreal and is the hedge fund editor for the
peer-reviewed journal Derivatives Use, Trading and Regulation published by
Palgrave Macmillan based in the UK. He has authored over 50 articles on
hedge funds, and managed futures in various US and UK peer-reviewed
publications, including the Journal of Portfolio Management, the Journal of
Futures Markets, the European Journal of Finance, the Journal of Asset
Management, the European Journal of Operational Research, and Annals of
Operations Research. He has published four books with John Wiley & Sons
Inc. and four with Elsevier.

The Contributors
Paul U. Ali is an Associate-Professor in the Faculty of Law, University of
Melbourne, Australia. Paul was previously a finance lawyer in Sydney.
Paul has published several books and journal articles on finance and
investment law, including, most recently, Opportunities in Credit Derivatives
and Synthetic Securitization (London, 2005) and articles in Derivatives Use,
Trading and Regulation, Journal of Alternative Investments, Journal of Banking
Regulation and Journal of International Banking Law and Regulation. He is currently co-editing a book on corporate governance.
Sergio Sanfilippo Azofra is Assistant Professor of Finance at the
University of Cantabria. He teaches also in some postgraduate courses
xiii

xiv

NOTES ON THE CONTRIBUTORS

in banking and financial markets. After taking his BS in economics, he completed his PhD in finance at the University of Cantabria. He has been a visiting researcher at Cass Business School (City University of London). He
has research interests in banking and corporate finance and he has published several papers in academic journals and presented several papers at
national and international conferences.
Wolfgang Breuer is a Professor of Finance at the RWTH Aachen University,
Germanys leading Technical University. From October 1995 to February
2000 he was a Professor of Finance at the University of Bonn. He earned his
PhD degree in February 1993 and his habilitation degree in July 1995, both
at the University of Cologne. After his diploma in 1989 he worked one year
in Frankfurt as a consultant at McKinsey & Co., Inc., before he continued
his academic career. He has written about a dozen books, more than 30 articles in books and numerous peer-reviewed journal articles comprising a
great variety of topics in the field of finance. His current research interests
focus on portfolio management issues and in particular performance evaluation for mutual funds as well as behavioral corporate finance and international financial management.
Mercer Bullard is an Assistant Professor of Law at the University of
Mississippi School of Law and founder and President of Fund Democracy,
a nonprofit advocacy group for mutual fund shareholders. As one of
the nations leading advocates for investors, Professor Bullard has submitted comment letters, organized rule-making petition drives, litigated
issues, requested hearings on exemptions, drafted and edited legislation,
and testified before House, Senate, Department of Labor, and state committees on mutual funds, 529 plans, 401(k) plans and other regulatory
issues. He was named by Investment News in March 2001 as one of the
25 most powerful voices in the financial services industry, cited by
BusinessWeek for leading the fight for shareholders rights, named by
a mutual fund trade publication as one of four Fund Titans for 2003,
and listed by Registered Rep. magazine as one of Ten to Watch for 2004.
Professor Bullard has also been widely quoted on mutual fund issues
in major newspaper and financial media, been featured in Business Week,
Ticker Magazine, Research Magazine, Worth, TheStreet.com, and other publications, and appeared on NBC Nightly News with Tom Brokaw, CBS
Evening News, CNBC, CNN, Wall Street Week, the NewsHour with
Jim Lehrer, and on other broadcasts. Following a clerkship with Judge
Will Garwood on the US Court of Appeals, Fifth Circuit, Professor Bullard
practiced securities law in Washington DC with Wilmer, Cutler and Pickering,
and served as an Assistant Chief Counsel with the Securities and Exchange
Commission. He received his BA from Yale, his MA from Georgetown, and
his JD from Virginia.

NOTES ON THE CONTRIBUTORS

xv

Radu Burlacu is Associate Professor of Finance at the University Pierre

Mends France, Grenoble. His thesis entitled Issuing Convertible Bonds: A
Signal of Firms Quality obtained the prize of the Best Thesis in Finance
2001, awarded by EURONEXT Stock Exchange and the French Finance
Association. His research fields are in asset pricing (information asymmetry, rational expectations equilibrium), portfolio management (mutual fund
performance, ethical investment) and investment decisions with hybrid
securities. He has published several articles in these different fields.
Rachel Campbell completed her PhD on risk management in international
financial markets at Erasmus University, Rotterdam, in 2001. She currently
works at the University of Maastricht as an Assistant Professor of Finance.
Her work has been published in a number of leading journals, including
the Journal of International Money and Finance, the Journal of Banking and
Finance, Financial Analysts Journal, the Journal of Portfolio Management, the
Journal of Risk, and Derivatives Weekly. She teaches for Euromoney Financial
Training on art investment, and works as an independent economic advisor
for the Fine Art Fund in London, and for Fine Art Wealth Management, UK.
Carlo Fiorio holds a PhD in economics from the London School of Economics.
He is currently an Assistant Professor (Ricercatore) in the Department of
Economics at Milan State University. He is also a Research Fellow of Econpubblica at Bocconi University, a research centre on public sector economics.
His research interests are in microeconometrics and the analysis of fiscal
policy through micro-simulation.
Patrice Fontaine is Professor of Finance at the University Pierre Mends
France, and formerly President of the French Finance Association. His PhD
thesis entitled Arbitrage Theory and International Pricing Financial Assets
obtained the prize for the Best Thesis in Finance from the French Stocks
Markets Society. He is the author of several books on international financial markets, arbitrage theory and exchange risk management. He has published more than 30 articles on issues related to arbitrage pricing theory,
financial integration, international portfolio management, asset pricing and
financial crises.
Giampaolo Gabbi is Professor of Banking and Risk Management at the
University of Siena, Italy, and senior teacher at SDA Bocconi Milan, where
he coordinates several executive courses on financial forecasting, and risk
management. He is Head of the financial areas of Masters in Economics of
the University of Siena. Professor Gabbi holds a PhD in banking and corporate management. He has published many books and articles in referred
journals, including Decision Technologies for Computational Management Science,
MTA Journal, Managerial Finance, and the European Journal of Finance.

xvi

NOTES ON THE CONTRIBUTORS

Alexei P. Goriaev received his BA in mathematical economics in 1997 at

Moscow State University and his MA in finance in 1998 at Tilburg University
(both cum laude). He earned his PhD in finance in 2002 at Tilburg University
with the thesis On the Behavior of Mutual Fund Investors and Managers.
Since September 2002, Alexei Goriaev has been Assistant Professor in
Finance at the New Economic School. His general research interests are in
financial econometrics, and his recent research focuses on dynamic strategies and forecasting of future performance of US and Russian mutual funds
as well as risk factors (in particular, political risks) and corporate financial
policy in emerging markets.
Guangxi Jia is an LLM candidate at the Washington University School of
Law in St Louis. He is a 1991 graduate of Xiamen University, where he
earned a Bachelor of Laws, and a 1997 graduate of Sun Yat-sen University,
where he earned an LLM. Mr Jia has been a partner in Hao Li Wen PRC
Attorneys in Shanghai and worked as in-house counsel for Coca-Cola (China)
and as an attorney in the Guangzhou office of Brand Farrar Buxbaum, LLP,
a US law firm based in Los Angeles.
Sonia Jimenez-Garces is Associate Professor of Finance at the Institut
National Polytechnique de Grenoble. Her PhD thesis, Asset Pricing in MultiAsset Markets with Informational Asymmetry: A General Equilibrium
Framework, obtained the prize Best Thesis in Finance 2005 from the French
Finance Association and the Fondation Nationale pour lEnseignement de la
Gestion des Entreprises. She has specialized in rational expectations models,
and her publications are mainly in the field of asset pricing and portfolio
management with asymmetrically informed investors.
Roman Krussl obtained his Masters in Economics with a specialization in
financial econometrics at the University of Bielefeld, Germany, in 1998. He
completed his PhD on the Role of Credit Rating Agencies in International
Financial Markets at Johann Wolfgang Goethe-University, Frankfurt/Main,
Germany, in 2002. As the Head of Quantitative Research at Cognitrend
GmbH, he was closely involved with the financial industry. Currently he is
Assistant Professor of Finance at Vrije Universiteit Amsterdam and Research
Fellow with the Centre for Financial Studies, Frankfurt/Main.
Jlio Lobo is a doctoral student in Management Sciences at the University
of Minho. He has an MSc in finance and was an undergraduate in economics at Faculdade de Economia, University of Porto (Portugal). Previously he
worked as a financial analyst and Lecturer at the Instituto de Estudos
Superiores Financeiros e Fiscais (Portugal).
Carlos Lpez-Gutirrez is Assistant Professor of Finance at the University
of Cantabria. He also teaches in some postgraduate courses in banking and

NOTES ON THE CONTRIBUTORS

xvii

financial markets. He holds a PhD in finance and a Bachelor degree and a

Diploma in Business. Professor Lpez is author of several papers on corporate financial distress and efficiency of the bankruptcy law, and he has
taken part in several prestigious national and international professional
meetings presenting this work.
Claudio Marsala is quantitative portfolio manager for Ras Asset Management,
and prior to this he spent several years at the risk management department
of Ras Asset Management, that he joined in 2001. His main focus is on the
practical application of econometric models to portfolio management. He
studied economics and econometrics in Pisa and holds a Masters in Finance
from CORIPE, University of Turin.
Clark L. Maxam is currently the Director of Research at Braddock Financial
Corporation. As former Director of Research and Portfolio Manager at New
York Life Asset Management and Professor of Finance at Colorado College,
Dr Maxam combines his 21 years of proprietary fixed income, equity and
derivatives trading experience with a PhD in finance from the Indiana
University Kelley School of Business. At New York Life, he led product development in both equities and fixed income and managed or co-managed over
$1 billion in assets for their $6 billion quantitative strategies group. His market
experience includes proprietary fixed income and derivative arbitrage and
market-making as Senior Vice-President at Security Pacific Global Trading and
NatWest Capital Markets. He is a past member of both the Chicago Board of
Trade and the Chicago Mercantile Exchange and was Senior Vice-President of
financial futures floor trading and sales from 198893. In 1993, Dr Maxam left
Chicago to obtain a PhD in finance from Indiana University which he completed in 1996. Dr Maxam now specializes in quantitative financial modeling
of domestic and international equity and fixed income markets. As both an
academic trained in the latest techniques in financial modeling and an experienced trader and portfolio manager, Dr Maxam brings a unique perspective to
the development and implementation of quantitative techniques that always
emphasize practicality and the realities of a dynamic marketplace.
Jin Meng received a Bachelors degree of law from Shanghai University of
Finance and Economy in 2004, and has worked as a legal assistant for a
Chinese information technology company. She is currently an LLM candidate at Washington University in St Louis.
Manuel Moreno holds a PhD in economics from the Universidad Carlos III
of Madrid and a BSc in mathematics from the Universidad Complutense of
Madrid. He is currently Assistant Professor of Financial Economics and
Accounting at the University of Castilla La-Mancha at Toledo (Spain),
Associate Editor of Revista de Economa Financiera and a member of GARP

xviii

NOTES ON THE CONTRIBUTORS

(Global Association of Risk Professionals). He has previously held teaching

and research positions at the Financial Option Research Centre (Warwick
Business School), Universidad Carlos III de Madrid, IESE Business School
and Instituto de Empresa Business School. In the past, he was the CoDirector of the Masters in Finance program at the University Pompeu Fabra
in Barcelona (Spain). His research interests focus on finance in continuous
time with a special emphasis on derivatives markets, financial engineering
applications, pricing of derivatives, empirical analysis of different pricing
models, portfolio management and term structure models. His research has
been published in a number of academic journals including Review of Derivatives Research and the Journal of Futures Markets, as well as in professional volumes. He has presented his work at different international conferences and
has given invited talks in many academic and non-academic institutions.
Andreas Oehler is Professor of Finance at Bamberg University and has held
a Chair in Management, Business Administration and Finance there since
1994. He received his MSc (diploma) and his Doctoral degree in economics,
business administration and finance from Mannheim University 1985 and
1989, and his Habilitation (postdoctoral degree) in economics and finance
from Hagen University 1994. During his academic career he has worked as a
senior and managing consultant at Pricewaterhouse and other companies.
His major fields of research are empirical, experimental and behavioral finance,
risk management, and banking and financial institutions.
Seow Eng Ong is an Associate Professor in the Department of Real Estate,
National University of Singapore and his research includes securitized real
estate, price discovery and housing finance issues. Seow Eng sits on the editorial board of six international real estate journals such as the Journal of Real
Estate Finance and Economics and the Journal of Property Research. He was the
200203 President of the Asian Real Estate Society and is currently Presidentelect of the International Real Estate Society. He was the recipient of the 2005
International Real Estate Society achievement award for outstanding
research, education and practice at the international level.
Massimiliano Pallotta joined the risk management team of Ras Asset
Management in 1997, working on the quantitative and technological aspects
of the development of the companys internal model. In June 2004 he joined
the quantitative portfolio management unit. He studied mathematics in Milan
and he has practical experience on the more advanced technological aspects
of the risk management and portfolio management process.
Marco Percoco, PhD, is a Research Fellow in the Department of Economics
at Bocconi University (Milan, Italy) where he teaches several graduate
courses in the field of applied economics. His main research interests are in

NOTES ON THE CONTRIBUTORS

xix

public policy, infrastructure finance and economics and sensitivity analysis

of economic models.
Joshua Pullan works in the Corporate Alliances department at Sothebys,
London. He is currently writing on art investment in Self-Invested Personal
Pensions in the United Kingdom. He has a Masters in Arts Business from
Sothebys Institute of Art, London. Prior to moving to London he graduated
from the University of Western Australia with a Bachelor of Laws/Bachelor
of Arts with honours. In 2004 he was admitted as a Legal Practitioner in the
Supreme Court of New South Wales, Australia.
Ji Qi is an LLM candidate at the Washington University School of Law in St
Louis and a 2001 graduate of Nankai University. Mr Qi previously practiced with Sea & Sea Law Firm in Tianjin, where he advised corporate
clients and handled contracts, corporate governance and maritime matters.
He has also worked for the Wanhuida Intellectual Property agency drafting
legal documents for trademark affairs. Mr Qi previously founded China
Knowledge M & T Co., Ltd, for which he produced guidelines and detailed
reports on M&A in China, and established a Century 21 real estate franchise, for which he provided management consulting and legal services.
Stefano Ricci joined the quantitative portfolio management unit in June 2004
at Ras Asset Management after being in the risk management department for
a few months. His focus is on the application of non-linear, non-parametric
forecasting models. He previously gained experience in a major Italian bank
in pricing complex derivatives. He studied economics and econometrics in
Pavia and holds a Masters in finance from CORIPE, University of Turin.
Gonzalo Rubio is Professor of Economics and Finance at the University of
the Basque Country (Spain). He holds an MBA from Columbia University
and a PhD from the University of California at Berkeley. His research interests have been related to theoretical and empirical topics on asset pricing.
He holds the research award of the European Finance Association and has
published articles on leading international journals on asset pricing, derivatives, microstructure and corporate finance. He is currently working on
the relationship between the yield curve and consumer confidence, the predicting performance of risk-neutral densities adjusted by habit preferences,
and the relationship between expected return and risk on internationally
integrated markets. He is the editor of the Spanish Review of Financial Economics
and co-author (with Jos Marn from the University Pompeu Fabra) of the
book Financial Economics.
Marco Rummer is currently finishing his PhD in financial economics at the
University of Bamberg, Germany. He holds an MSc in economics and

xx

NOTES ON THE CONTRIBUTORS

finance from the University of York, UK, which was funded by the German
Academic Exchange Service, and a BA in management from the GeorgSimon-Ohm Fachhochschule Nuremberg, Germany. His major research
interests include empirical and experimental research on financial markets
and corporate finance.
Muhammad Akbar Saeed is Assistant Professor of Finance in the
Department of Management Sciences at Bahria University (Karachi Campus).
Akbar completed his MBA in finance in 1982 and Postgraduate Diploma in
computer science in 1989 from the Institute of Business Administration (IBA),
University of Karachi. Besides a marine engineering certification, Mr. Saeed
is also a Diplomaed Associate of the Institute of Bankers, Pakistan, and an
Academic Member, European Corporate Governance Institute, Belgium.
Akbars investment banking career of 17 years (19832000) with the Investment Corporation of Pakistan (ICP) covered underwriting of public offerings, project financing, equity research, and culminated in heading ICPs
Mutual Funds Department.
Roberto Savona is Assistant Professor of Financial Markets and Institutions
at the University of Brescia, Department of Business Studies, Italy. He
received his PhD in finance at the University of Udine, Italy (2002). He also
teaches at the Master MF of Brescia and collaborates with SDA and Newfin
at Bocconi University. His current research interests include mutual funds,
hedge funds, performance measurement, and he has presented his works
at EFMA, FMA, also organizing the Euro Working Group of Financial
Modelling Conference held in Brescia in May 2005.
Ana Paula Serra is an Assistant Professor in the Faculty of Economics,
University of Porto (Portugal), where she teaches undergraduate and graduate
courses in corporate finance, international finance and investments. She holds
a PhD in finance from the London Business School. Her research concentrates
on international asset pricing and capital markets, emerging markets and privatization. Previously, she worked at one of the leading Portuguese investment banks, as a research analyst and asset manager.
Olaf Stotz holds a PhD in finance and is Assistant Professor of Finance at
RWTH Aachen University, Germanys leading Technical University. His
research interests include asset management, behavioral finance, empirical
asset pricing, market efficiency and mutual funds. He has written several
peer-reviewed research articles in the fields of fund management and the
equity risk premium and edited a book on asset allocation. Before his academic career he worked for several years in the finance industry for major
financial institutions in Germany.

NOTES ON THE CONTRIBUTORS

xxi

Nadeem A. Syed completed his MBA (personnel and industrial management) and Doctorate in business administration (general management)
from Aquinas University, Philippines in 1997. He possesses over 15 years
corporate experience with national and multinational companies. He is
presently serving as Associate Professor and Head of the Department, Management Sciences, at Bahria University, Karachi, Pakistan. He teaches organization behavior and organization development on MBA courses. He is also
the Coordinator of the Faculty Research Program at Bahria University. He
has authored a number of international conference papers in the areas of
HRM systems and practices, e-governance, privatization, and general management.
Begoa Torre-Olmo is Professor of Banking and Finance at the University
of Cantabria, and is Assistant Vice-Chancellor of teaching staff for the
University of Cantabria and member of the Board of the Public Project
Finance Company of Cantabria Regional Government. She is the coordinator of doctorate programs with several important Mexican universities. She
has research interests in the mutual funds industry and corporate finance
distress, and has published several papers in academic journals.
Thomas Walker is a native of Germany. He received a PhD in finance and an
MBA degree in finance and international business from Washington State
University (WSU) in Pullman, WA, and a BSc in Wirtschaftsinformatik (management information systems) from the Technical University of Darmstadt,
Germany. Dr. Walker joined Concordia University in Montreal, Canada, as
an Assistant Professor in 2001. Prior to his academic career, he worked for
several years in the German consulting and industrial sector for such firms as
Mercedes Benz, Utility Consultants International, Lahmeyer International,
Telenet, and KPMG Peat Marwick. His research interests are in IPO underpricing, securities regulation and litigation, institutional ownership, insider
trading, and aviation finance.
Stefan Wendt is a doctoral student as well as Research and Teaching Assistant
in finance at the University of Bamberg, Germany. He studied international
and European business studies at the University of Bamberg and at the
Norwegian School of Management BI, Sandvika, Norway, and graduated
in 2005. His main research interests include corporate governance and
empirical finance.
Craig Wisen is an Assistant professor of Finance at the University of
Alaska, Fairbanks School of Management, and is a Chartered Financial
Analyst. He received his PhD in finance from the Indiana University Kelley
School of Business in 2002. His primary research interests include mutual
fund performance evaluation and real estate.

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NOTES ON THE CONTRIBUTORS

Raffaele Zenti has been Risk Manager at Ras Asset Management from 1997
to June 2004, working on the development of the internal risk model and on
the definition and application of risk policies to actively managed portfolios. Since 2004 he has been a quantitative portfolio manager: he supervises
a department that manages several portfolios using non-subjective models.
He studied economics and statistics in Turin and is Lecturer on the Masters
in finance of CORIPE, University of Turin.

Introduction

Chapter 1 discusses the introduction of a number of art funds in the financial marketplace which has led to a number of interesting issues arising in
the mutual fund industry. From an investment perspective, art funds provide an alternative avenue down which investors can diversify their portfolios. They also offer investors a market with irregularities and inefficiencies,
which art funds may be able to exploit to reap highly attractive returns. Just
how interesting an avenue can this be and what benefits exist from investing in art funds, are addressed in this chapter.
Chapter 2 examines the numerous empirical studies that have analysed
the individual or aggregate performance of mutual funds. Relatively little
work has investigated the effect that the additional management layer funds
of mutual funds (FOFs) may have on its risk-adjusted return. The authors
compare the risk-adjusted returns of FOFs to those generated by a random
selection of mutual funds possessing the same investment objective of the
FOFs. FOFs perform no better than their respective benchmarks, and
exhibit a propensity for economic underperformance. FOFs tend to invest
in funds with lower than average expense ratios, but their total fees exceed
those of traditional funds by an average of 0.97 percent suggesting that
they are engaged in expense arbitrage: buying low-cost funds and repackaging them as a higher expense fund.
Chapter 3 examines how portfolio selection has been in the focus of
financial research for at least thirty years. With hand-collected data containing information about the portfolio structure of private and institutional investors, this chapter gives a brief literature review and sheds light
on the home bias effect in Germany from 1990 until 2005. Despite a decline
of this effect since the early 1990s, German in particular private
investors still hold a bigger-than-optimal portion of domestic assets (bonds
and equities) in their portfolios compared to the world market portfolio.
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INTRODUCTION

Chapter 4 develops a model to estimate the efficiency in international

mutual funds. The author interprets returns and volatility spreads with
benchmarks and constructs a four-diagram plot to calculate two efficiency
ratios and correlate them to monetary policy behavior.
Chapter 5 shows how portfolio construction is a complex phase at the
core of any quantitative asset management process. During this phase portfolio managers face topics like use and misuse of constraints, estimation of
covariances and other parameters, optimization, and the rebalancing frequency. The authors compare, from a practical point of view, different ways
to construct benchmark-relative portfolios of stocks. They further consider
various alternatives that a practitioner can face and back-test the associated
portfolios, comparing the results.
Chapter 6 observes that households are increasingly using mutual funds
as their main long-term investment vehicles. Today, the number of mutual
funds available exceeds 17,000 in the United States alone. Market participants are therefore in need of valid, unbiased and straightforward information in order to select mutual funds with the best future prospects. The
most well-known fund rating system is provided by Morningstar Inc. This
chapter reviews the mid-June 2002 revised Morningstar 5-star rating system, its many attractive features but also its limitations.
Chapter 7 considers theoretically the portfolio selection problem for (private) mean-variance investors and (professional) tracking-error investors
and examines the optimal wealth delegation from the former group to the
latter (mutual fund flows). Moreover, the authors study empirically the
German stockmarket and find (among other things) that fund flows impact
benchmark stocks and non-benchmark stocks in different ways. Within the
authors model, their observations can be explained by a private investors
mean-reverting expectation bias regarding mutual fund returns.
Chapter 8 tests for herding by Portuguese mutual funds over the period
19982000 using the herding measure suggested by Lakonishok, Schleifer,
Thaler and Vishny (1992). The authors find strong evidence of herding
behavior for Portuguese mutual funds and the level of herding is four to
five times stronger than the herding found in previous studies.
Chapter 9 investigates the popular types of mutual funds worldwide
called Exchange Traded Funds (ETFs). In general, they offer lower fees,
greater pricing transparency and greater liquidity than other mutual funds
following comparable investment strategies. The chapter discusses the
dual trading structure of ETFs and the key legal concerns that arise when
designing ETFs for a common law market.
Chapter 10 examines the nature of competition for new investor money
in the mutual fund industry by analysing how fund flows are affected by
their relative performance within different types of categories. The author
demonstrates that domestic stock and domestic bond funds should outperform not only their peers with the same stated objective or Morningstar

INTRODUCTION

xxv

style, but also other funds within the same asset class in order to attract
investors.
Chapter 11 examines the increasing globalization and changing market
conditions, whereby European mutual fund managers turn more and more
towards industry placement. The authors find that momentum strategies
based on sector funds provide positive risk-adjusted abnormal returns
even after subtracting expenses, loads and redemption fees. Their results
represent a challenge for the efficient markets hypothesis.
Chapter 12 provides a comparative overview of mutual fund regulation in
the USA and China. The chapter compares each countrys approach to key
aspects of the regulation of investment pools, including affiliated transactions, corporate governance and sales practices, and offers insights into how
Chinas nascent regulatory regime may evolve in light of the US experience.
Chapter 13 analyses the mutual funds industry in Spain. The empirical
evidence reported in this chapter shows striking differences in behavior
among management companies when distinguishing among banks, savings banks and independent management companies. One possible explanation may be the universal banking model characterizing the Spanish
financing system. As a consequence, a worrying lack of competition in the
Spanish mutual fund industry can be observed.
Chapter 14 describes the worldwide escalation of the mutual funds
industry over the last two decades by stimulating major players to offer
their products beyond national borders. In Italy the role of foreign firms has
grown significantly, since it is widely believed that foreigners outperform
Italian money managers in almost all investment categories. With the purpose of inspecting this supposed foreign superiority, the authors empirical
analyses demonstrate that this common view is due to tax distortion
between domestic and non-domestic funds.
Chapter 15 examines the best global practices and codes of corporate
governance in the context of mutual funds and then compares them with
the practices and the regulatory regime for the mutual fund industry in
Pakistan. Historical perspectives of the mutual fund industry in Pakistan
are also addressed.
Chapter 16 investigates public spending for pensions, one of the most
relevant items in government budgets. Public spending on pensions has
become a source of concern for policy-makers as, given the PAYGO system
in use in most countries, the ageing of the population as measured by the
percentage of individuals in working age is declining and is expected to
decline even more. In recent years Italy has undertaken reforms to move
towards more sustainable pension systems. The data-set used in this chapter
is the Survey of Household Income and Wealth (SHIW) published by the
Bank of Italy and based on interviews in 2002. It is found that the probability
to underwrite such an instrument is positively correlated with education
and negatively with the age of the worker. The fact that younger workers

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INTRODUCTION

are more willing to join pension funds is crucial for portfolio management,
as this situation calls for a long-term investment horizon. The presence of liabilities (in terms of pensions) occurring in the long run will lead the market to
demand new instruments, such as long-term indexed bonds, and for a portfolio composition reflecting the constant relative risk-aversion of workers.
Chapter 17 illustrates the moral hazards in the Spanish market of mutual
funds that determine manager activity in terms of risk-taking behavior,
window-dressing, or follow-up of active or passive management strategies.
Chapter 18 attempts to shed some light on the mutual fund industry
from the standpoint of how participants choose these financial products.
The authors analyse which factors are most important to investors and find
that financial factors and behavioral arguments must both be considered.